The rally in Turkish debt that sent
yields down the most in emerging markets is starting to falter
as rising oil prices revive concern over the biggest current-
account deficit after the U.S. and Italy.

Yields on benchmark two-year lira bonds rose for a fourth
day today in their longest rising streak since November after
sliding as much as 248 basis points this year, the most among
the 15 largest developing nations tracked by Bloomberg. The
lira, which strengthened 7.8 percent against the dollar in the
first seven weeks of this year, fell for the fourth day and
headed for the lowest level since Jan. 26.

Turkish bonds had rebounded on speculation that the
current-account gap, at a record $77 billion or 10 percent of
gross domestic product, would ease as the second-fastest growing
major economy slowed. Gains turned to losses as Brent crude hit
a three-year high of $128.4 a barrel on March 1. Energy Minister
Taner Yildiz said Feb. 28 that every $10 increase in the oil
price adds $4 billion to the cost of imports. Turkey is the most
exposed to higher fuel costs among all emerging markets, Societe
Generale SA said in a Feb. 24 report.

“High oil prices are dangerous for current-account deficit
countries like Turkey,” Win Thin, the global head of emerging-
market currency strategy at Brown Brothers Harriman in New York,
said in e-mailed comments.

Yesterday’s Brent price of $125 a barrel compares with a
cost of $110 assumed by the central bank for its economic
projections for 2012.

Erdem Basci, 45, governor of the Central Bank of the
Republic of Turkey, warned on Feb. 28 that rising global energy
prices pose a risk to inflation and the current account.

Deficit Forecast Rises

The current-account gap narrowed for a second month in
December to $6.6 billion, the central bank said on Feb. 13. The
estimate for this year’s deficit climbed to $62.7 billion from
$62 billion, according to a fortnightly central bank survey of
economists and business leaders published on Feb. 22. The
government is “struggling” to stop higher oil and gas prices
being passed on to homes and businesses, Yildiz said in Ankara
on Feb. 28 in an interview with CNBC television.

Turkiye Garanti Bankasi AS (GARAN), Turkey’s biggest bank by market
value, may increase its forecast for the deficit from $62
billion for 2012, Ali Ihsan Gelberi, chief researcher at the
bank in Istanbul, said in e-mailed comments yesterday.

Commerzbank AG will stick to its forecast for a reduction
in the deficit to 7.8 percent of GDP as long as oil remains at
$130 a barrel or less, Tatha Ghose, a London-based senior
emerging market economist, said by e-mail yesterday.

“The oil price risk” means the lira is less attractive
than Poland’s zloty, said Thu Lan Nguyen, a Commerzbank currency
strategist in Frankfurt, said in a phone interview on March 2.

‘Elevated’ Prices

Societe Generale said yesterday it ended bets on the lira
gaining against the Israeli shekel and the Czech koruna, citing
the “theme of elevated oil prices” in an e-mailed report by
Benoit Anne, a London-based chief emerging-market strategist.
Germany’s DZ Bank AG recommended investors sell the lira versus
the euro in a March 2 report from Daniel Lenz, its Frankfurt-
based chief emerging-market strategist.

Concern about the current-account deficit contributed to an
18 percent slump in the lira last year, the biggest depreciation
worldwide, and a 390 basis points, or 3.9 percentage point,
advance in two-year bond yields, the largest jump since 2006,
according to a Turk Ekonomi Bankasi AS index of the securities.

Index Falls

Turkey isn’t the only emerging market losing ground. The
MSCI Emerging Markets Index (MXEF) of shares fell 3.5 percent in the
last two days after China cut its economic growth target and
euro-area services and manufacturing output shrank by more than
estimated in February.

“We are starting to see a correction in most-risk markets
right now,” said Thin of Brown Brothers Harriman.

The lira declined 1 percent to 1.7890 at 4:56 p.m. in
Istanbul today. Futures signal the exchange rate will weaken to
1.8090 per dollar in April and 1.8285 in June, data compiled by
Bloomberg show.

The extra yield for Turkish dollar bonds over similar-
maturity U.S. Treasuries rose six basis points to 328 today,
compared with an average of 356 basis points for emerging
markets, according to JPMorgan Chase & Co.’s EMBI Global index.

Default Swaps

The cost of protecting Turkish bonds against default using
five-year credit-default swaps dropped three basis points
yesterday to 229, according to CMA, which is owned by CME Group
Inc. and compiles prices quoted by dealers in the privately-
negotiated market. The spread was 183 for Russia, rated three
levels higher by Standard & Poor’s, 183 for Poland and 158 for
South Africa.

Turkish contracts cost 31 basis points less than the
average for countries in central and eastern Europe, the Middle
East and Africa included in the Markit iTraxx SovX CEEMEA Index.
The swaps pay the buyer face value in exchange for the
underlying securities or the cash equivalent should a government
or company fail to adhere to its debt agreements.

Morgan Stanley & Co said the size of the current-account
gap excluding oil is less of a threat to Turkey’s economic
stability because exports are rising at a faster pace. The
deficit will shrink to $60 billion by December, Tevfik Aksoy, a
London-based economist for central and Eastern Europe, Africa
and Middle East at Morgan Stanley, said in an e-mailed response
to questions yesterday.

Turkey not only risks being hit by higher oil prices but a
military conflict over its borders in Iran, said Isik Okte,
chief strategist at Halk Invest in Istanbul, the broker owned by
Turkish state-run bank Turkiye Halk Bankasi AS (HALKB).

“If America and Israel attack, then just sell Turkey when
you find a bid” because inflation and the current account will
“go through the roof,” he said.